How WD installed a circuit breaker in its SanDisk deal

Before Western Digital (WD) drops $19 billion to buy SanDisk, it's going to make sure certain conditions must be met.

In September, Chinese tech company Unisplendour announced plans to buy a 15% equity stake in WD for about $3.78 billion. The move gives Unispelendor the ability to nominate one of WD's board members and a foot in the door of the North American and European hard drive market.

WD stated in its SanDisk announcement that it will pay one price if it closes on the Unisplendour deal -- and another, lower, price if that transaction fails to go through. The transaction is expected to close in the third calendar quarter of 2016.

If the Unisplendour deal occurs as planned, Western Digital will pay $85.10 per share in cash and 0.0176 shares of Western Digital common stock per share of SanDisk common stock; otherwise, WD will pay $67.50 in cash and 0.2387 shares of Western Digital common stock per share of SanDisk common stock.

On top of the Unisplendour stipulation, WD said it expects to take on new debt of about $18.4 billion, including a $1 billion revolving credit that will be part of the SanDisk purchase price.

WD also said that if SanDisk's cash balance falls below certain thresholds at the time of the deal closing, "the merger agreement provides for an adjustment to the mix of cash and stock consideration."

WD did not disclose in its announcement what those further "adjustments" would be.

Jim Handy, a storage industry analyst with Objective Insights, said WD's Unispelendor stipulation is more about an exit strategy from the SanDisk deal if things go south than about ensuring it has sufficient funds to make the acquisition.

Essentially, Western Digital is betting that SanDisk shareholders will turn down the alternative cash offer, about 20% less than the primary cash offer, Handy said.

"It will spark a shareholder revolt. It indicates shareholders for SanDisk are in a very bad position," Handy said. "The company is doing surprisingly bad."

SanDisk has struggled over the past year. The flash drive maker has experienced a steep decline in earnings, a trend that the market has anticipated will continue.

Total revenue for SanDisk decreased 16.9% in the third quarter of this year compared with last year.

Handy believes the deal is a good one for Western Digital, in that it quickly establishes the company in the strong NAND flash market.

WD, Intel, Micron

A Western Digital harddrive (left) and a NAND flash die and chipboard (right)

It would not be WD's first foray into that market.

In 2013, WD collaborated with SanDisk to bring its its first solid-state hybrid drive (SSHD) or "hybrid drive" to market. The WD Black SSHD combined up to 500GB of spinning disk drive capacity with 8GB to 24GB of NAND flash memory from SanDisk.

But hybrid drives have had slow uptake. Sales are only expected to reach $25 million by 2016. Meanwhile, NAND flash and SSD sales are skyrocketing.

WD's strategy

NAND Flash demand worldwide is projected to expand from 30% of the overall market in 2015 to 35% in 2016, according to market research firm TrendForce.

In the wider SSD market, the enterprise segment is seeing strong growth due to a sharp decline in overall SSD costs and developments in cloud computing applications. For the PC market, SSD penetration in notebooks is estimated to rise substantially from 26% in 2015 to 36% in 2016 as vendors follow Apple's lead in furnishing their laptops with SSDs.

All companies with key technologies related to SSD production have been the takeover targets for larger storage solution providers like WD and NAND flash memory suppliers in recent years, according to DRAMeXchange's assistant vice president, Sean Yang.

"This latest deal is a win-win for both sides," he said. "For WD, the rise of the SSD market has accelerated the development of related storage equipment. WD's acquisition targets in the past three years were all developers of core technologies related to NAND flash memory."

WD's success in acquiring SanDisk is crucial to its plan to dominate the SSD market -- the lynchpin to its strategy.

Objective Analysis' Handy pointed to Intel as an example of just how hot the SSD market is. Intel yesterday announced it would get back into the NAND flash production game by converting its fabrication facility in Dalian, China, from making processor chips to making 3D-NAND flash chips.

Intel also plans to invest up to $5.5 billion in its 3D NAND project. The Dalian fab plant is scheduled to begin producing memory chips in the second half of 2016.

Since 2006, Intel and Micron's joint venture -- IM Flash Technologies -- has been developing and manufacturing flash memory chips. The companies have opened at least two fabrication facilities, one in Lehi, Utah, the other in Singapore.

Intel, however, is a 49% stakeholder in the venture, with Micron owning the fabrication facilities, Handy said. So opening its own facility puts it back in control of production and addresses a dearth of NAND in China.

The latest data from TrendForce shows that China is set to consume $6.67 billion worth of NAND flash in 2015, accounting for 29.1% of the industry's revenue this year. The country is also projected to consume a third of the global NAND flash demand in 2016, representing a giant leap in growth.

Tsinghua Holdings, the parent company of WD's prospective partner Unispelendor, also made an informal bid of $23 billion for Micron Technology in July through another subsidiary, called Tsinghua Unigroup.

SanDisk has also had a joint NAND flash developer agreement with leading flash maker Toshiba; SanDisk has been the minority stakeholder in that partnership, Handy said. WD said that joint venture is expected to continue under its ownership.

Now that WD has a prospective partner in Unispelendor and a NAND flash memory maker in SanDisk and Toshiba, it can also address the massive Chinese market.

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